(CRM) FQ2 Earnings Preview / Hedge Idea

by Dan August 16, 2019 2:42 pm • Trade Ideas (CRM) is scheduled to report their fiscal Q2 results on Thursday, August 22nd after the close. The options market is implying about a 5.5% move in either direction or about $8, which is tad rich to the 4.5% average over the last four quarters, but below its ten-year average one-day post-earnings move of about 6%.

With the stock about $144, the Aug 23rd weekly 144 straddle (the call premium + the put premium) is offered at about $8, if you bought that, and thus the implied movement between now and next Friday’s close, then you would need either a rally above $152 or a decline below $136 to make money.

CRM’s earnings and guidance next week could come at a fairly important time for the stock as it has recently sold off about 10% and has massively underperformed many of its high growth software peers and the broad market, only up 5% on the year. The stock has consistently found staunch technical resistance between $160 and $170:

Taking a slightly longer-term look at the stock over the last few years, the stock’s recent drop has it testing the uptrend that has been in place since late 2016:


Why the underperformance in CRM of late? The tech publication, The Information had a fairly detailed take in a recent article, suggesting that their recent announced purchase of Tableau for $157 billion, which the article notes are a greater sum than all of their prior 28 acquisitions combined. They highlight two major issues for the stock of late, one leading to the other, decelerating growth, high valuation, and integration of Tableau:

Salesforce is still growing—revenue rose 26% last year, the fourth year it posted growth in that range. But that’s down from annual growth in the 30–40% range over the preceding decade. Meanwhile smaller, younger subscription software firms like Twilio and Zendesk are growing in the 40–60% range. And the company’s growth has slowed despite the spate of acquisitions—raising the question of how slowly Salesforce would be growing if it didn’t keep buying other companies.

Investors may also be worried about the risks of the Tableau deal. Not only is it much bigger than previous acquisitions, it takes Salesforce in a new direction. The acquisitions of recent years enabled Salesforce to diversify from its original business of selling software that companies use to manage their sales teams. The purchases of InStranet, ExactTarget, Demandware, Heroku and MuleSoft laid the foundations for the company to offer customer service, marketing, online shopping, app development and integration software products, respectively. Each of the services acquired became part of the Salesforce platform, making it easier for Salesforce customers to sign up for them.

Obviously, the Tableau deal has not even closed and not likely to have any meaningful impact on the quarter or the guidance, but the results might highlight the need for the bold deal.

If I were long stock and thought that the recent underperformance might be a sign of declining confidence of investors in CRM’s rollup strategy, but not willing to sell, but interested in protection near term I might consider a hedging strategy called a collar. A collar is selling an out of the money call (1 contract vs 100 shares) and buying an out of the money put of the same expiration. This allows for upside to the short call strike, losses down to the long put strike, but protection below. An investor would do this if they did not want to sell their long position and are more worried about extreme downside near term then they are about extreme upside.

Oh and lastly if looking to hedge long stock into an event like earnings, options premiums are usually elevated as market makers expect greater than usual volatility post results, so to sell options, they require higher prices… this elevated implied volatility is one reason why collars make sense relative to merely buying put protection as you are helping to finance the purchase of the put with the call sale…

Short-dated options prices have risen sharply into the print and should come in hard to the mid to low 20% range post results.

Here is an example of a collar I might consider in CRM over the next couple months keeping in mind that after earnings there will be no shortage of macro headlines related to the trade war with China, Brexit and a whole host of other issues that have caused market volatility of late.

Hedging Idea:

vs 100 Shares of CRM long at $144 consider Buying Oct 160 – 130 collar for 70 cents

-Sell to open 1 Oct 160 call at $2
-Buy to open 1 Oct 130 put for $2.70

Break-even on Oct expiration:

Gains of the stock up to $159.30 (160 call strike less 70 cents premium paid) between now and Oct expiration, profits capped above $160. On or before Oct expiration investor could always cover the short call strike if the stock is at or above 160 to keep the long position intact.

Losses of the stock down to the 130 long put strike (plus the 70 cents premium paid). Protected below 130.

Rationale: an investor would do this if they did not want to sell their long position and are more worried about extreme downside near term then they are about extreme upside. Most importantly willing to suffer losses down to 130 and have gains capped at 159.30 between now and Oct expiration.